How Investment Bankers Vet Private Companies
Investing in or acquiring a company involves a certain level of risk. One can minimize this risk through due diligence, but evaluating a company before making an investment is more difficult with private companies.
Publicly traded companies are auctioned and traded conventionally on the stock market. These companies are also held to stricter standards for their business and accounting practices. Unless you are a founder, employee, or investor through a venture capital or private equity firm, it is often difficult to buy shares in privately held companies. Private companies are also not legally obligated to publicly disclose as much information as public companies.
Public Vs. Private Due Diligence
If a company is public, investment bankers can use public filings to learn about the finances, shareholders, and operations of a company. Private information is usually then shared after signing a confidentiality agreement.
With a private company, investment bankers rely extensively on any nonpublic information a company agrees to provide. Investment bankers must therefore wait until after signing a confidentiality agreement to perform most necessary due diligence.
While investment bankers must rely on any private information shared by private companies, they must also independently verify that information. Even if an accounting firm has signed off on all necessary financial documents, investment bankers must ensure the documentation is complete and consistent.
Investment bankers look for certain red flags when vetting a private company. Cause for concern exists if a private company is elusive about elaborating on its finances beyond any documents it provides. Signing a confidentiality agreement mitigates concerns about sensitive information being leaked, so this unwillingness is usually a bad sign.
Private companies may have a few areas that investment bankers need to consider. Private companies are audited less frequently than public companies, as private companies are not subject to the same regulations as public companies. Private companies may therefore have significantly different accounting procedures. Investment bankers may have to contend with accounting practices outside the norm, which can make these companies more difficult to properly analyze.
Small or young private companies may not have standardized HR processes, requiring investment bankers to be extra attentive to hiring practices and workplace policies of a business, as well as any questionable terminations or claims of harassment.
Due diligence is a lengthy but necessary task to perform before making an investment. Despite the extra steps required, investment bankers are just as thorough when vetting private companies as with public companies.
Netshares’ vetting and due diligence processes cannot predict the potential for success, or lack thereof, of any company or investment. In making an investment decision, investors must rely on their own examination of the offering documentation, the issuer, and the terms of an offering. Investors cannot cancel their investment after an offering closes.
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